Understanding the full effects of the Interstate Land Sales Full Disclosure Act

With the recent downturn in the economy, more purchasers of new construction, including those whose properties have already been completed, are searching for ways to rescind their purchase contracts and are more often finding refuge in the federal Interstate Land Sales Full Disclosure Act (ILSFDA or the Act). Congress enacted the ILSFDA in 1968 as a consumer protection initiative, in response to increasing evidence that developers were exploiting out-of-state purchasers by promising lucrative investment opportunities but selling worthless parcels. Designed to discourage fraudulent sales and keep buyers informed, the Act imposes on certain developers both registration and disclosures requirements and subjects developers to anti-fraud provisions. Unless exempt from the Act's requirements, a developer who fails to comply with the Act risks revocation of the purchase contract. Although the Act was originally enacted to be a shield of protection for purchasers, it has become a sword wielded by purchasers in a down real estate market, particularly purchasers of second homes and investment properties. The ILSFDA prohibits the sale or lease of lots through interstate commerce or mail, unless the developer complies with specific registration and disclosure requirements. The ILSFDA is administered by the U.S. Department of Housing and Urban Development (HUD). Unless exempt, the developer must file a statement of record with HUD which must include a detailed property report and documentation on title, land use, roads, utilities, financial background, recreational facilities, and subdivision characteristics. Once approved by HUD, the developer may begin to engage potential purchasers but must provide each purchaser with a detailed property report prior to executing any agreement. In addition, each purchase agreement must clearly grant to the purchaser a right to rescind the contract within two years of the contract signing if a property report is not provided. A developer may be excused from complying with the requirements of ILSFDA if the developer qualifies for one of several exemptions set forth in the Act. Under the Act, a developer may either be fully exempt from all of the Act's requirements or partially exempt from only the registration requirements. The two most common exemptions are referred to as the: (1) two-year completion exemption, and (2) 99-lot exemption. If a developer unconditionally commits to build the structure within two years from execution of the purchase contract, the developer is wholly exempt from the statute's requirements. To qualify for this exemption, the developer's obligation to construct must be absolute and the seller must strictly comply with the two-year period. Contractual clauses that permit nonperformance by the developer for reasons such as the unavailability of materials, strikes and labor problems, will disqualify the developer from the exemption. Extensions of the two-year period, however, are permissible if the delay is caused by Acts of God. Moreover, even if the developer qualifies for the exemption, the developer must strictly adhere to the Act's requirements and complete construction within the two-year period. To be "complete," a certificate of occupancy must be delivered, and the construction must be habitable for the purpose for which it was constructed. Delivery of a certificate of occupancy a few days after the expiration of the two-year period has been the basis for successful breach of contract claims against developers. A developer also may be exempt from the requirements of ILSFDA if the subdivision contains fewer than 100 lots. Projects of less than 100 lots but which are part of a common promotion plan, however, will not be exempt. Thus, a single developer or a group of developers who act in concert to offer lots for sale or lease by advertising under a common name, sharing common sales facilities, or having common sales agents, may not be exempt under the Act. Generally, liability under the Act can be both costly and far-reaching. In addition to revocation of the purchase agreement and return of any monies paid, developers in violation of the Act are subject to civil liability, HUD imposed penalties, and even criminal liability. Under the Act, a developer is not just the direct seller of the project, but also includes any person who indirectly sells, or leases, or offers to sell or lease, or advertise for sale or lease, any lots in a subdivision. Courts have further broadened the definition of developer to include officers and directors of the developer, and in some cases, even banks. In today's environment, the ILSFDA not only protects purchasers from entering into fraudulent purchase agreements, but also may serve as a mechanism to revoke an existing purchase agreement. On the other hand, developers should be aware that while the Act's exemptions can provide a shield against potential claims under the ILSFDA, such protection is both difficult to secure and limited in scope. Denise Pursley, Esq. is a partner in the Real Estate and Community Development Dept. of Nixon Peabody LLP, New York, N.Y. and Long Island, N.Y. Joann Moolsintong, an associate of the firm contributed.